By Steven Pearlstein
Friday, May 7, 2010; A20
It is easy to dismiss Thursday's 30-minute, 1,000-point boomerang on the Dow Jones industrial average as a freak event that resulted when everyday human error collided with high-speed, high-volume computerized trading.
But it should not be forgotten that that the whole thing was triggered when traders around the world simultaneously pushed the "sell" button as they watched live video of baton-wielding riot police wading into a crowd gathered outside the parliament in Athens to protest the passage of austerity measures foisted upon their government by their European neighbors and creditors.
Even after technical glitches were suspected and the trades were unwound, however, the markets and the world confronted the precarious state of the 60-year effort to create a single economy and a unified political system out of Europe's once-warring countries. The Dow has already fallen more than 600 points in three days on fears that a European debt and banking crisis could drag the continent's economy back into recession and put the entire European project in jeopardy.
This project has created a massive new bureaucracy in Brussels, a much-ignored new political apparatus in Strasbourg and a central bank in Frankfurt that continues to reflect the Germanic fear of easy money. After the Berlin Wall fell, the once-communist countries to the east were gradually incorporated into the union. And under the financial umbrella of the euro, the smaller, poorer countries at the periphery found they could borrow and attract enough capital to bootstrap themselves into the ranks of wealthy nations.
But as C. Fred Bergsten of the Peterson Institute put it this week, the fundamental problem is that even with a single currency and a unified political and bureaucratic structure, the arrangement is only a "halfway house" on the way to genuine political and economic integration, and a rickety one at that. While capital and goods and tourists can move relatively freely across borders, workers and services cannot, and national governments continue to jealously protect their regulatory and fiscal prerogatives. Although the political and economic elites continue to swear allegiance to the European project, their top-down strategy continues to meet strong resistance from voters.
It was only a few years ago that, with the United States moving from the world's largest creditor to its largest debtor and Europe enjoying a boost from the rapid growth of its new members in the east, many were predicting the euro would soon rival the dollar as the world's reserve currency. But nobody was saying that Thursday as the euro continued its months-long slide from $1.50 in January to $1.26 at Thursday's close.
There is little doubt that Greece's debt crisis is of its own making, the result of corruption and tax avoidance and that seductive Mediterranean coupling of high living and low productivity. Greece now finds itself in a trap where the only way it can refinance its crushing debt load is to drastically cut spending and raise taxes, but doing so will almost certainly plunge the economy into such a deep recession that incomes and tax revenues will fall and the government will be unable to meet its debt service requirements. So deep is this trap that numerous experts in international finance, including Barry Eichengreen of the University of California at Berkeley, now predict that Greece will eventually default on its debt and force creditors to accept less than they are owed.
At the same time, however, experts say there was nothing inevitable about the financial contagion sparked by the solvency crisis in a country that represents about 3 percent of the European economy. According to Eichengreen, Bergsten and others, responsibility for that rests squarely with European leaders who for months dithered while markets began to lose confidence not only in Greece but also other countries on Europe's periphery.
German Chancellor Angela Merkel was reluctant to commit to a rescue before a key provincial election, knowing full well how her fiscally prudent citizens would recoil at the thought of bailing out the profligate Greeks. And French President Nicolas Sarkozy was reluctant to call in the International Monetary Fund and give a political boost to its managing director, who's been hinting he might want to run against Sarkozy in the next presidential election. By last weekend, when faced with the reality that the impact of a Greek default would fall heaviest on French and German banks, they reluctantly agreed to a $140 billion rescue that, rightly or wrongly, is now viewed by the markets as too little and too late.
The problem was further compounded by the European Central Bank, whose first instinct when confronted with the threat of contagion has always been to try to deny its existence in the hope of restoring confidence. At a meeting in Lisbon on Thursday, the bank had a golden opportunity to calm fears by lowering interest rates and assuring markets that it would provide whatever liquidity was necessary to stabilize credit markets, as the U.S. Federal Reserve has done with singular success. Instead, ECB president Jean-Claude Trichet emerged from the meeting to announce that the bank was holding rates steady and would not monetize debt by buying up the bonds of member countries whose markets were under pressure. It remains unclear how much further the euro will have to fall before Trichet is seized by the gravity of the threat from both contagion and the fiscal austerity he continues to preach.
The next blow to the European project is likely to come from across the English channel, where voters were set to elect a new government almost certain to be more hostile to political and economic integration than the liberal governments of Gordon Brown and Tony Blair. Conservative Leader David Cameron is an unapologetic euro skeptic who has made it clear he will never give up the pound for the euro. And to deal with Britain's own growing debt problem, Cameron, who studied his economics at Oxford rather than at Keynes's Cambridge, has vowed his own austerity program, which is likely to contribute even further to a European economic slowdown.
Back when the global financial crisis began in earnest in 2008, Europeans were quick to blame it all on Americans who lent unwisely and borrowed excessively. So it is more than a bit ironic that, having long denied its own forays into unwise lending and excessive borrowing, it is Europe that seems to be leading the global economy into the second phase of the crisis.